Editorial note: We earn commission from partner links on Forbes Advisor. Panels do not influence editors’ opinions or ratings.
If you go to college, you will likely have a large amount of student loan debt. Student loans can be a huge burden, and keeping up with your monthly payments can make it difficult to achieve other financial goals. In fact, an MIT AgeLab study found that 84% of American adults said student loans negatively affected the amount they could save for retirement.
If you’re dealing with student loan debt, it can be difficult to decide whether to prioritize paying off your loans or investing for your future. To help you make the right decision for you, we’ve broken down when you should pay off your student loans or invest your money.
Should I pay off student loans or investing? 5 factors to consider
When it comes to personal finance, experts usually recommend focusing on two things: paying off debt and saving for retirement. But it can be difficult to save for retirement if you’re burdened with student loan debt. To help you decide where to put your money, consider the following five factors:
1. Student loan interest rates
The interest rate on your loans should help guide your decision. The interest rate affects your monthly payments and the total cost of repayment. If you have high interest rates, interest can accumulate quickly, adding to your loan balance. In this case, it may be better to pay off the debt in order to lower your interest rate costs and also save more cash in the future.
2. Loan type
There are two main types of student loans: federal and private. Federal student loans are issued by the government and tend to have lower interest rates than private loans. They also have more benefits and options for borrowers, including alternative payment plans and loan forgiveness programs.
Private student loans are more risky forms of debt. They offer lower protection and payment options than federal loans and often have higher interest rates.
3. Employer contributions
If you’re weighing the pros and cons of investing versus paying off your debt, review your employment benefits package. If your employer offers their workers a retirement plan, like a 401(k), and makes matching contributions, that’s a huge advantage you may not be taking advantage of right now.
4. Financial goals
Think about your goals. If you want to be a homeowner or start a business, you may find that your loans prevent you from achieving those milestones. By contrast, you may want to focus on investing if your goal is to retire early.
Your age can affect what you should prioritize. If you’re right out of college and you’re in your twenties, you have more time to save for retirement. But if you’re in your forties or fifties, you won’t have much time to waste if you don’t have enough money currently saved in a retirement fund.
Compare personalized student loan refinancing rates
Takes up to 3 minutes
When is priority given to repaying student loans?
A common question people ask is, “Should I pay off my student loans or investment?” While there is no one right answer for everyone, here are three scenarios in which it might make sense to prioritize paying off your loans before investing your money.
1. Your loans have high interest rates
Student loans can have very high interest rates. According to the Institute for College Access and Success, private student loan rates were 14.24% in 2019. And while federal loans tend to have lower interest rates than private loans, their rates are still high. For example, the interest rate on Direct PLUS loans issued to parents or graduate students was 6.3% for the academic year beginning July 1, 2021.
If you have high-interest debt, the amount you pay in interest may exceed what you’ll earn in stock market returns, so it may make sense to tackle your loans first.
To see how interest rates affect your payments and total repayment, use the Forbes Advisor Student Loan Repayment Calculator.
2. Your loans are variable
Federal student loans always feature fixed interest rates, so your rate remains the same for the duration of the repayment. This is not always the case for private student loans. Some private loans have variable interest rates that can change over time.
While variable rates can start out low, they can increase dramatically. If you have a variable rate loan, paying it off as soon as possible can prevent you from having to deal with market volatility later, and you can save money.
3. Your loans are causing you stress
Personal finance isn’t always about numbers; It can also be very emotional. If your student loans are causing you a lot of stress or preventing you from achieving lifestyle goals like owning a home, it may be worth paying off your loans first to get some peace of mind.
When are investment priorities determined?
If you are not sure whether to invest or pay off student loans, here are some situations in which it may be wise to prioritize your investments.
1. The employer makes matching contributions
If your employer offers a retirement plan with matching contributions, that’s a huge benefit.
According to Vanguard’s 2021 How America Saves study, 59% of employers made matching contributions in 2019. Unfortunately, nearly 40% of employees miss the full match due to a lack of participation. Not making enough contributions to qualify for the full match means that you lose money that is part of your compensation package.
Under the most common matching structure, the employer will match $0.50 for the first 6% of the employee’s salary. For example, if you earn $50,000 a year and contribute $3,000 to your 401(k) — 6% of your salary — your employer will contribute $1,500 to your retirement.
If your employer makes matching contributions, you should prioritize benefiting from the company’s full match over debt repayment.
2. Behind You On Retirement Savings
Nearly a quarter of non-retired adults have no retirement savings at all, according to the Federal Reserve. If you haven’t started saving for retirement yet, it probably makes sense to put off your loans early to focus on building your retirement fund.
The earlier you start saving for retirement, the less you will have to spend for post-retirement living expenses. Market returns and compound interest over time are powerful tools that can help build your nest.
If you wait until later in life — like when your loans are paid off — you’ll have to work harder and save more to meet your retirement goals.
3. Your loans have low interest rates
Depending on the type of loans you have and when you withdraw them, they may have low interest rates. For example, direct subsidized loans for undergraduates disbursed between July 1, 2020 and June 30, 2021 had an interest rate of 2.75%.
Compare the interest rate on your loan with the expected investment returns. Conservatively, the annual rate of return you can expect from your retirement investments is usually 4% to 7%. If the expected return exceeds the interest rate on your loan, prioritizing your investments may be the best option.
A hybrid approach: Pay off student loans and invest at the same time
While many people choose one goal or another, it doesn’t have to be all or nothing. You can use a hybrid approach and work toward both goals.
Think about the extra money you have each month to invest in achieving your financial goals. Divide that amount in half and contribute to each goal. For example, if you have $200 left after paying all of your bills, invest $100 for retirement and use the remaining $100 to make additional payments for your student loans.
While you will make slower progress than if you focus on only one goal at a time, you will continue to make progress and improve your overall financial picture.
Choosing a debt repayment strategy
If you want to start shrinking your student loan balance, you can speed up repayment by using repayment strategies such as debt collapse or debt snowball methods.
Depending on how you think, focusing on debt at the lowest interest rate may be the best option. Or, you might still be more motivated if you prioritize paying off the debt with the lowest balance first. No matter what payment strategy you use, you will pay off your loans faster and achieve your goals sooner.